Unearned Revenue: What It Is, How It Is Recorded and Reported

This is also a violation of the matching principle, since revenues are being recognized at once, while related expenses are not being recognized until later periods. Unearned revenue is a current liability and is usually listed as such on the balance sheet. Just because you have received deferred revenue in your bank https://www.bookstime.com/articles/is-unearned-revenue-a-current-liability account does not mean your clients will not ask for a refund in the future. Additionally, some industries have strict rules governing how to treat deferred revenue. For example, the legal profession requires lawyers to deposit unearned fees into an IOLTA trust account to satisfy their fiduciary and ethical duty.

Instead, you will record the payment as a liability on your balance sheet. Unearned revenue is a type of liability account in financial reporting because it is an amount a business owes buyers or customers. Therefore, it commonly falls under the current liability category on a business’s balance sheet.

Insurance companies

In this article, I am going to go over the ins and outs of unearned revenue, when you should recognize revenue, and why it is a liability. Don’t worry if you don’t know much about accounting as I’ll illustrate everything with some examples. From the date of initial payment, the payment is recorded as revenue on a monthly basis until the entirety of the promised benefits is confirmed to have been received by the customer. The recognition of unearned revenue relates to the early collection of cash payments from customers.

• For example, assume that each time a shoe store sells a $50 pair of shoes, it will charge the customer a sales tax of 8% of the sales price.
• And this is a piece of information that has to be disclosed to complete the image about the financial situation at that moment in time.
• Since only half of the uniforms were delivered on May 6, only half of the costs of goods sold would be recognized on May 6.
• An example of a typical customer advance is the receipt of an annual maintenance contract fee, where the entire contract is paid up front.

A deferred item, in accrual accounting, is any account where a revenue or expense, recorded as an liability or asset, is not realized until a future date (accounting period) or until a transaction is completed. Examples of deferred items include annuities, https://www.bookstime.com/ charges, taxes, income, etc. If the deferred item relates to an expense (cash has been paid out), it is carried as an asset on the balance sheet. If the deferred item relates to revenue (cash has been received), it is carried as a liability.

Definition of Unearned Revenue

Penalty clauses are only applicable to loans paid off prior to maturity and involve the payment of a penalty fee. The above-mentioned items are considered the transaction fees on the refinancing. These fees must be calculated before substituting an old loan for a new one, as they can wipe out any savings generated through refinancing. Current liabilities are usually settled with cash or other assets within a fiscal year or operating cycle, whichever period is longer. In another scenario using the same cost information, assume that on April 3, the league contracted for the production of the uniforms on credit with terms 5/10, n/30.

Unearned revenue is most commonly understood as a prepayment provided by a customer or client who expects the business to deliver an item or service on time as agreed upon at the time of the purchase. Perform a monthly check of your balance sheet and the income statement. If you have booked revenue too early you will need to start from scratch and recalculate your earnings for all accounts.

Unearned revenue example:

From a SaaS accounting perspective, you will not earn that revenue until you deliver what you sold to the customer. It means that the $12,000 deferred revenue turns into revenue gradually with each month as the subscription progresses. When Sierra paid the remaining balance on August 10, the company qualified for the discount. However, since Sierra only owed a remaining balance of $11,000 and not the original $12,000, the discount received was 2% of $11,000, or $220, as demonstrated in this journal entry.

• We see that the cash account increases, but the unearned revenue liability account also increases.
• The per share dividend amount is multiplied by the number of shares outstanding and this result is debited to retained earnings and credited to dividends payable.
• Unearned revenue is a liability and is treated in a very unique way.
• Deferred revenue is commonplace among subscription-based, recurring revenue businesses such as SaaS companies.
• The earlier you receive payment, the more money you can use to pay off debt, purchase more inventory, and keep things running.
• You record it under short-term liabilities (or long-term liabilities where applicable).

Landlords, companies that provide a subscription service, or those in the travel or hospitality industry may receive the majority of their payments for unearned revenue. These companies simply recognize the revenue in full when they receive a payment. They have to pay income tax on the payments they receive, even if the goods or services haven’t been provided yet. As the business earns revenue, the unearned revenue balance is reduced with a debit, and the revenue account balance is increased with a credit.